Another rough week for Chinese Small Caps on US markets has passed. Many of the stocks in this universe lost about one third of their value in the past two weeks. This is not a small correction and with general US markets being weak and on the verge of another breakdown it is possible that we even see further downside in the China space.

The China Model Portfolio is focusing on long-term trades in undervalued growth stocks, that means that while it is sometimes painful to watch the portfolio value drop we do not have much reason to worry in the long term as long as the underlying values and stories of the portfolio positions stay intact. Or take it this way: all of the undervalued growth stocks from last week are no lesser growth stocks but even more undervalued now.

I would advise to take a cautious stance with starting new positions now and wait for the general markets to stabilize and to form a base. It might be that you have to buy in at a higher price as sentiment in the China space can sometimes change very quickly, but I prefer buying in an uptrend to reduce downside risk. The only type of stocks I would consider at the moment would be thinly traded OTC stocks where you can get huge bargains if you are lucky as buyers seem to have completely disappeared, volume has completely dried out, and you could benefit from 'stink bids' getting served by desperate, panicking sellers (see RDBO this Friday).

Biostar Pharmaceuticals (BSPM)

BSPM is down 30.53% from its recent high at $4.75 (January 5th). The stock is currently trading at a forward P/E of just 3.88 based on my FY10 estimate of EPS $0.85. That is a bargain for every long-term investor, especially if you consider the company's growth prospects and the (not very well communicated) intentions of the company to uplist to NYSE Amex in the very near future.

China Architectural Engineering (CAEI)

The stock is not moving much in this downturn, still sits at its base that formed last November/December. That's about all the positive to report. CAEI stays a potential turnaround story, a world class engineering and construction firm that you can buy at very depressed levels. I would limit exposure to a small position though as there is no immediate catalyst for the stock price coming up.

China MediaExpress (CCME)

CCME is down 20.72% from its recent high at $14.82, achieved on January 19th. With the current negative sentiment in Chinese small caps, CCME got dragged down with the rest of the group. That doesn't mean anything about this growth story would have changed, so I would stay calm and sit it out. China MediaExpress will likely be back in focus strongly when buyers return to the China space.

China Armco Metals (CNAM)

CNAM is down 26.67% from its recent high at $4.50 (January 20th). The stock is dropping on very low daily volume of just about 20,000 shares last week, there are no buyers in many of the OTC-traded Chinese growth stocks. Should that make us worried? Not at all - if all goes as planned with the new scrap metal factory, the company can make up to one dollar per share in net income this year.

China Biologic Products (CBPO)

Down 27.66% from its January 11th high at $13.70. The stock took a big hit last week on a Seeking Alpha piece which questioned the background of a member of CBPO's senior management and claimed the company was seeded with stolen money. China Biologic responded with a press release, claiming that the article was based on research backed by a hedge fund that is shorting the stock and that they see this as "an attempt to discredit the Company's management and disrupt the Company's business and operations." Several analysts (Brean Murray, Rodman & Renshaw) came out in defense of the company, maintaining their buy ratings and price targets in the mid-teens.

By Friday's close, China Biologic's stock price has recovered more than 20% from Wednesday's intraday low of $8.13, so the overall drop from the January highs is now more or less in line with its peers in the sector. However, as there are doubts raised about senior management the stock might be stained for a while. To reflect that, I will reduce my price target by 10% from $15.00 to $13.50.

China Kangtai Cactus (CKGT)

CKGT is down 21.00% from its January 11th high at $3.00. As with many other OTC stocks, volume dried out completely towards the end of last week and is now a mere 25-40% of the average. Despite this drop the overall story of CKGT turned even more positive last week. The company reported that "the demand for our newly launched cactus cigarettes has exceeded our expectations," and CKGT secured a $2.1m contract for those cigarettes on Tuesday.

China Sun Group (CSGH)

China Sun is down 33.19% from its recent high at $2.35 (January 8th). Nothing in the story has changed, but there aren't any new developments to report either. Still waiting on concrete facts about the new finished batteries for the automotive industry. Rick Pearson put up a neat video about him visiting CSGH's site on TheStreet.com.

GC China Turbine (GCHT)

GCHT successfully bucked the trend and is actually up 5.75% for the week. This might have to do with a slew of press releases last week. On January 26th the company announced three new development projects with the Baicheng Municipal Government, adding up to a "potential value of orders in excess of" $550.4 million. The following day GCHT added another development project in Liaoning Province valued in excess of $34.4 million. Slowly we learn where the company's ambitious growth and revenue guidance is coming from, looks good at this point!

L&L Energy (LLEN)

The stock is down 26.21% from its January 12th high of $8.09. LLEN is currently trading at a conservatively estimated forward P/E of 5.1 which is, considering the growth prospects and uplisting plans of the company, very cheap. There are no indications that China's demand for coal is easing, quite the contrary. I like the stock here very much.

Lotus Pharmaceuticals (LTUS)

After a huge run-up the stock is now down 30% from its January 21st all-time high at $2.00. Volatility has been very high in LTUS the past week with huge intraday swings and the indication that contrary to many other OTC-listed Chinese stocks, there are still buyers out there for Lotus. I wouldn't be surprised if the stock will relatively outperform its peers in the next upswing.

New Energy Systems (NEWN)

NEWN announced significan news last week that has been completely overlooked by the market in the current negative sentiment for US-listed Chinese small caps. The company announced a $3m distribution agreement for solar mobile iPod and iPhone chargers. This is significant because it marks the first ever contract for the company outside of China and when there is one, more will follow. Another positive is that NEWN is obviously delivering on their promise to improve investor awareness and put out a bunch of well-designed press releases in the past weeks that give a good picture of the company's progress and growth prospects. At the current forward P/E of about 5 I consider NEWN one of the top holdings in the China Small Caps space and THE most promising stock in the lithium-ion space overall.

Orient Paper (ONP)

I have a price target of $14.50 on the stock and the stock traded above $15 both on January 12 and 13. If you follow the China Model Portfolio and you had a chance to see the price target being reached, then you could have sold the stock and would have done the exact right thing. The rules I set for the portfolio do not allow me to make mid-week changes and it was very unfortunate that ONP's weekly close was always well below the target price. But I want to stress that those targets are there for a reason and if one of the portfolio positions reaches the target price mid-week you should consider to get out. After all, it is a purely random decision to make changes only at Friday's close (could have been Tuesday or Wednesday and the ONP position would be gone now).

In the meantime, ONP lost a whopping 40.53% from its all-time high at $15.15 and the stock is back to where it was in November. If I could have sold the position at the target price I would likely now re-buy it here at $9.00 as there is absolutely nothing in the story that justifies this 40% drop. Now we just have to be patient for the stock to reach the target again.

Skystar Bio-Pharmaceutical (SKBI)

Surprising action in SKBI last week as the stock was the biggest loser in the model portfolio. The only identifiable reason was a note by GeoInvesting.com to remove the stock from their recommendation lists. GeoInvesting's reasoning is "unimpressive EPS growth for the next three quarters," and they have a 2010e EPS of $1.80 in their research.

Now this number of $1.80 is exactly what I have on my lists as well and it translates into a forward P/E of 4.80 for a Nasdaq-listed stock in a high growth industry. Funny enough, GeoInvesting projects accelerating EPS growth of up to 46.3% in Q4/2010 and with their forecast of weak Q1 number, growth in Q1/2011 will be even more impressive coming from a low base. GeoInvesting's call makes no sense at all and we all should just ignore it, in this market environment many did not, though.

Worldwide Energy & Manufacturing (WEMU)

WEMU announced a new financing last week which means a 94% dilution (incl. warrants) for current shareholders. The stock dropped hard but held up above the offering price of $4.50 which is a sign of strength in this market. While this kind of massive dilution is exactly what I do not want to see ever again in any of my holdings, I am still willing to give the company a chance to deliver on Q4 and FY09 promises with their annual report that is due at the end of March. If there is no upside surprise in those numbers I will sell the complete position immediately.

The massive share increase with the financing certainly makes my old price target for the stock unsustainable. I am reducing the target price for WEMU from $15.00 to $9.60, based on 12x projected 2010 EPS of $0.80.